Power of Increasing Your SIP by 5% or 10% Every Year

A few days ago, I did a post on How You Could Create a Corpus of Rs 8.4 Crores Starting with Just Rs 10,000 every month. In the post, I analyzed following 3 scenarios over a period of 30 years (with approximate results):
  1. A Fixed SIP of Rs 10,000 every month (= Rs 3.24 Crores)
  2. An Increasing SIP, Starting with Rs 10,000 every month & 10% Annual Increase (= Rs 8.40 Crores)
  3. A Fixed SIP of Rs 26,000 every month (= Rs 8.40 Crores)

In all the above scenarios, the assumption for annual returns was 12%. Now this number, according to me is quite conservative because of the following points:

  • In last (almost) 2 decades, Indian markets have given higher returns (in excess of 15%).
  • Well diversified, actively managed mutual funds have delivered returns of more than 18% for almost a decade.
  • If risk-free instruments like NSC, PPF give close to 9% return, then there is no point going for equities as an investment class if expectations are less than 10%
  • Indian Growth Story is still intact. And till the time India becomes a developed economy, it will continue to grow at a reasonable pace. My guess is that India is still 25-30 years away from becoming a mature and (real) developed economy – in terms of quality of life, industrial might and similar things.

The last point is my personal assumption (speculation). And there were few readers who had the view that 12% average returns in not sustainable for next 30 years. Some of the views were that as the economy grows and matures, inflation would stabilize and reach levels close to 2-3% as in the case of US and other developed economies…so figuring in dividend yield and the equity return risk premium, Indian markets might give 9% to 10% return 30 years down the line… AND….Premium above inflation is bound to reduce as inflation decreases as the economy matures.

Now I am not saying that my assumption of 12% is hundred percent correct. What I am saying is that I am slightly more optimistic about India in next 30 years. I know I will not get 20% returns from market. But I ‘think’ I will be able to make more than 9% average returns over the next 30 years. Because if I am not able to manage that, then I will rather buy risk-free options like PPF, NSC, etc.

MF SIP Investing Cartoon

But more importantly, what I think a lot of people are missing in last post is the fact, that the 3 scenarios discussed show the real power of long term, sensible investing.

Ask anyone who is close to his/her retirement and chances are that they may not have crores in their retirement funds. I have people asking me questions like ‘What should I do if I have Rs 10,000 every month to invest?’ 

The previous post is an answer to that. No matter where you are and what your current financial state…you can start now!

Believe me… Equities have the ability to make you rich. Really rich… All you need to do is to be disciplined and stick to simple investment ideas.

Note that in all the scenarios, we are assuming a 30 year tenure and equity return of 12%. These numbers can change depending on change in tenure and equity return…you can either keep an assumption of 10% for next 30 years OR 12% for first 20 years and 9% for remaining 10 years. But the overall conclusion remains same – Do your SIP diligently, however small it may be. And whether or not, you are able to increase it every year. You will be positively surprised at the money you have accumulated at the end of all those years.

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Case Study: How To Accumulate Rs 8.4 Crores? Starting Only with Rs 10K every Month?

Some time back, I made my 7 resolutions for 2015. One of the resolutions which I made was to increase my mutual fund SIP contribution this year by atleast 10%. This initially may seem like a simple thing to do, but believe me…it can have a really big impact on how much wealth you can accumulate eventually.

And this is what I will try to convince you about here…

Let us suppose that I stay in a job for next few decades. I turned 30 few days back. So for all practical purposes, I have another 30 years before I retire.

Let’s also assume that as of now, I do not have any savings or investments.

Now let’s take up 3 different scenarios:

Scenario 1

I start a SIP of Rs 10,000 every month for next 30 years. I am making a conservative assumption that a well diversified mutual fund scheme will be able to deliver 12% every year. There are schemes in India which have done almost double of that for almost a decade. But lets not be over-optimistic, and stick to 12% for this and other scenarios.

So after 30 years of Rs 10K monthly investment, the corpus will finally reach a cool Rs 3.24 Crores!! Details of the calculations can be found in image below. Please click to enlarge it:

Scenario 1: SIP of Rs 10K for 30 years

Scenario 2

I start with a SIP of Rs 10,000 every month. But for next 30 years, I increase my SIP contribution by 10% every year. i.e. I invest Rs 10,000 per month in first year…followed by Rs 11,000 every month in second year….Rs 12,100 in third year..and so on. Here again, the return assumptions are kept at a conservative 12%.

So after 30 years of increasing SIPs (which started at 10K a month, with 10% annual increase), the corpus will finally reach a (way cooler) Rs 8.40 Crores!! Details of the calculations in image below:
Scenario 2: SIP starting with Rs 10K, which increases 10% every year for next 30 years
So you see the difference. A simple 10% increase in your monthly SIP, more than doubles your final corpus. Not bad.

But wait…..

You must be wondering that instead of just increasing this SIP every year, what would happen if you started with higher amounts and kept it constant?

The answer to your question is provided in the third scenario.

Scenario 3

To achieve a corpus which is almost equal to one achieved in second scenario, i.e. Rs 8.40 Crores…you need to start with, and continue paying Rs 26,000 every month. Once again the detailed calculations are given in image below:

Scenario 3: Constant SIP of Rs 26K for next 30 years
As you see in second and third scenarios, you can achieve the same target amount (Rs 8.4 Cr) by choosing two different approaches. So question now is…


Which one to choose?

At first glance, it might seem that increasing SIP is better than Constant SIP as it is more convenient. It also seems to be in line with a simple common-sense based thought that:

Income Rises – Expenses Rise Too – So Should Investments

Why should SIP be kept constant when your income is rising? Your investment (through SIP) should also increase. Think for yourself… If you started a 10K SIP when you were earning 50K some years back, and you are proudly flaunting this 10K SIP even today…when currently you earn more than Rs 1.5 lac a month, then it is something stupid. You wont become rich!

An important point to consider here is that even though both scenarios result in Rs 8.4 Crores at the end of 30 years, the total investments made by you in both cases will differ substantially.

In scenario 3, the SIP is constant at Rs 26,000 for all 30 years. Whereas in increasing SIP model, you start with Rs 10,000 and it continues to increase every year. In 12th year, the SIP amount in increasing SIP scenario crosses Rs 26,000 (equal to constant SIP value).
In year 18, monthly SIP will exceed Rs 50,000. In year 26, it will exceed Rs 1 lac a month.
When you compare these numbers with constant SIP number of Rs 26,000, these might seem like very big numbers. But decades from now, these would be very small numbers considering the increase in annual income and inflation, etc.

But as I said, total investment in both cases will differ substantially. In constant SIP scenario, you will be making a total investment of Rs 93.6 Lacs in 30 years. But in increasing SIP scenario, your total investment would be Rs 1.97 Crores (almost twice!).
So does it mean that its better to start with a bigger amount in constant SIP instead of increasing one?? As in both cases…the end result is same – Rs 8.4 crores.

But before you decide, read further…

When we start investing, its not easy to allocate very big amounts towards Mutual Fund SIPs. Suppose you start earning Rs 40,000 as your first salary. You under normal circumstances, will not be able to shell out Rs 26,000 every month. But can easily manage Rs 10,000. And with rising income, you can keep increasing your SIP amounts (Scenario 2). 

Honestly speaking, there is nothing like starting a large SIP very early in your life.

What do you think? What strategies do you use to boost your SIPs?